Days Payable outstanding (DPO) may be defined as an average number of days company takes to return the credit given to it by the trade creditors as materials or products to be sold. It is expected that the company sells the given materials/products in the shortest time period possible. The usual time for giving the credit back to the trade creditors is around 30 days.
The way to calculate days payable outstanding is by multiplying payable balance at the end of accounting time being calculated with 365 (days in a fiscal year) and then dividing it with a number of purchases.
Advantages/Disadvantages
There are merits and flaws to having high or low days payable outstanding. If the number is high, that means that the company takes more time to pay back the credit. That means that the company has more cash flow time, but on the other hand it may mean losing the suppliers discount, or even damaging good relationship with the trade creditors. The suppliers discount is a benefit to timely repaying companies, as a means of encouragement to give back the taken credit as soon as possible, and thus gaining profit faster. Meaning, the trade creditors require less money than previously agreed because the companies returned the money faster. If companies don’t give the credit back in timely manner, suppliers may even induce penalties.
In that case, the companies returning the credit will be paying more money than needed and previously agreed.
If the number is low, that means the company is aiming for the trade creditors discount, thus paying less than they it normally would and showing good will and professionalism to the trade creditors, making way for the future collaborations. It is highly recommended to give the money back to the trade creditors while in the allotted time for discount, but not to early thus having more cash flow time.
Importance
Days payable outstanding (DPO) is very often used by credit givers to determine the credit returning polices of companies. By comparing days payable outstanding it can be measured how long the companies hold down to money, and thus measure which companies are giving the invested money back, making them profitable investments. It can be used for evaluating contracts, as in knowing what kind of offer to make when investing money, or what kind of offer to expect from trade creditors. It may be used by credit givers to give starting discount or penalties to certain companies, while others are spared.
